Christine Lagarde has also welcomed the Spanish stress tests results. The managing director of the International Monetary Fund has also suggested that the banks will ultimately need less than the €59.3bn capital shortfall.

Here's Lagarde's statement:

This thorough and transparent independent valuation of assets and stringent stress tests will help provide significant and helpful differentiation among financial institutions. Public funding of the banks’ actual capital needs, which are expected to be lower than the amounts identified in the stress tests, can be financed comfortably under the recapitalization program supported by Spain’s European partners.

I strongly support the authorities’ commitment to ensure that capital needs are met in a timely manner and that the weakest banks are dealt with effectively. These key steps, as recommended in the IMF’s Financial Sector Assessment Program (FSAP) for Spain conducted earlier this year, will contribute to build a sounder banking system, which in time will help to restart credit flows and boost growth and employment.

Euro up a bit....

The euro has rallied slightly since the Spanish stress tests results were released. At €59.3bn, the black hole in Spain's banking sector is (officially at least) rather less than the €100bn set aside to cover the shortfall).

It's now trading around $1.288 against the US dollar, from as low as $1.283.

European Stock Markets Post Losses

There was a late selloff, as traders became jittery about the looming Spanish bank stress tests results (amid wild rumours that Spain's bailout request might come tonight, or that Moody's might cut its credit rating - see 15.05 for more).

To the dismay of a swath of French bankers, business leaders and the wealthy, President François Hollande has remained true to his word and unveiled €20bn (£16bn) in new taxes, including a 75% "supertax" band that will hit the rich.

In what Hollande has described as France's harshest budget in 30 years, business and personal taxpayers were asked on Friday to make an "unprecedented effort" to slash the country's public spending deficit.

However, the Socialist government sidestepped swingeing cuts in public spending, including pensions and state salaries, in its 2013 budget, which aims to find €36.9bn in savings.

Public Sector Workers Protest In Rome

Public workers took to the streets of Rome today to protest against the country's austerity programme, showing the opposition to Mario Monti's cutbacks and tax rises.

As many as 30,000 people took part in the demonstration, organised by the two largest Italian unions. The disruption even spread to the Colosseum, which temporarily shut its doors to visitors after staff walked out.

The march was called to voice anger over Monti's decision to cut public sector spending, where wages have already been pegged back since 2010.

According to Reuters, the march meant traffic was particularly bad in Rome, but there are no reports of violence. It adds:

University professors, public administration employees, garbage collectors and health workers also stopped work in support of the march.

"At the moment, I just can't see a future that gives us any hope, particularly for the youth," former soldier Emilio Amiraglia said at the event.

Here's a few more expert comments on the French budget (some via Reuters):

Eric Chaney, chief economist of AXA

The government has understood that the increase in the public debt has got to be halted but the way that they are doing it is not the right way. Itamounts to strongly increasing the tax burden on companies, theirshareholders and executives, in other words those who create addedvalue.

It will lead to an even bigger loss of competitiveness and so a reduction in long-term growth. That will in turn keep the deficit and debt from being reduced over the long term.

Philippe Wachter, economist at Natixis Asset Management.

What raises a few questions for me is how will the conditions arise toreach the 3% deficit-to-GDP ratio with an optimistic growthforecast.

The ambitions that were flagged are very audacious ...I have a hard time seeing the story how we're going to find the necessary growth in 2013 and afterwards... So far we have a lot of numbers and not the story.

Yannick Naud, Portfolio Manager at Glendevon King Asset Management

Hollande’s real strength is his finance minister, Pierre Moscovici, whose commitment to a 3% deficit target in 2013 has helped keep French government bonds as one of the best performing core and semi-core European government bonds, even out performing German Bund’s (since presidential election the OAT-Bund spread moved from 1.4% to recently hit 0.55% on September 14th ).

The low rate of refinancing is a positive sign for the French economy although the increase in taxes for wealthy households and large corporations are likely to damper future GDP growth, an example being the 5y CDS spread of Peugeot vs VW, 7% vs 4.7% after the French Presidential election. “

The City rumour mill is in full swing this afternoon. There's speculation that the Spanish stress tests (due around 5pm BST), will show a much larger black hole than feared. Possibly as much as €150bn (vs the €60bn which analysts recently calculated).

There's also chatter that Spain's request for a bailout might come tonight.

Steve Collins, global head of dealing at London & Capital Asset Management, has the latest word from the trading floor:

Cameron: UK needs new settlement with Europe

David Cameron has hinted that Britain could hold a referendum on its membership of the European Union in the next few years.

Speaking in Rio de Janeiro, the UK prime minister suggested that the British public must have their say once Europe has agreed the political and economic changes needed to strengthen the eurozone.

The changes will have to be agreed by all 27 EU members, either through revisions to the Lisbon treaty or a whole new treaty.

As my colleague Nick Watt explains, Cameron will use this process to attempt to win some powers back from Europe.

This is the key quote from Cameron:

I don't think it is in Britain's interests to leave the EU, but I do think what it is increasingly becoming the time for is a new settlement between Britain and Europe, and I think that new settlement will require fresh consent. In the next parliament, I think there will be opportunities for a fresh settlement and for new consent to that settlement.

The fact is Europe is changing – and changing rapidly. The eurozone of 17 countries with one currency, I believe that one day they are going to move towards one economic policy. We are not going to be part of that and I think that will provide over time opportunities for a new settlement between Britain and Europe.

Suggested lunchtime reading: My colleague Jo Moulds has spent the last few days in Portugal, where the public rose up against the government over its latest tax rises. She writes:

We have reached the limit. People are tired of making sacrifices because you don't see any improvement whatsoever. Quite the opposite." Marina Padeiro, 36, is one of Portugal's estimated 1.3 million unemployed – a number that has shot up in the past year and a half, as a result of the stinging austerity measures imposed on the country in exchange for a €78bn (£62bn) bailout.

Sitting in a café in the northern industrial belt of Lisbon, she shrugs. "If there was some sort of hope you may see a decent future … the problem is they are not showing it to us." Her father, a retired lorry driver, says the evidence is on the streets. Out here – far from the capital's pretty, cobbled centre, which still attracts tourists – shops are closed up for good, or open only sporadically.

During the time he spent at the bar of the restaurant, the former IMF chief ... chatting to those around him made of point of saying how much he loved Greece and its people. When asked about the economic crisis he said the situation was difficult but that with great effort the problems could be overcome.

The daily said it was not until 5am on Thursday that DSK was spotted returning to his hotel - a fairly humble establishment -- on Athens' main commercial boulevard Ermou.

SophieDworetzsky, partner at law firm Withers LLP, believes that the 75% top rate of tax announced as part of the French budget today will drive more wealthy people over (or under) the Channel:

Back in June, David Cameron raised French hackles by promising to "roll out the red carpet" to French firms if Hollande slapped a new levy.

Dworetzsky reckons the UK PM should get the hoover out:

We may need to spruce up Britain’s red carpet for the French sooner rather than later, given President Hollande’s latest announcement. Since Monsieur Hollande’s election we have seen a definite, and strong, increase in French individuals and corporates investigating the best, and most tax efficient way to relocate to the UK and minimise their French tax burden.

Typically, we are asked how to avoid becoming UK-resident for tax purposes, but it in this case UK residence is highly favourable, whereas French tax ties are seen as a burden'.

Until yesterday, the technocrat called in last November after Silvio Berlusconi stepped down was promising he would hand over the reins to elected officials following elections next year.But that promise was beginning to startle the markets, which admire Monti’s appetite for austerity and fear the free spending and anti-European views of some Italian politicians.

Only yesterday, a resurgent Berlusconi was railing against Monti’s tax hikes and envisaging a German exit from the euro (as well as stumbling over his exchange rate arithmetic), while comedian turned politician Beppe Grillo continues to discuss a referendum on Italy staying in the euro.

But the real victim of Monti’s return would be the centre left Democratic Party, which is currently leading the polls and could see its chance to form a government go up in smoke if Monti offers to lead a coalition government.

Reacting to Monti’s statement, party leader Pier Luigi Bersani said that if anyone “thinks they can pre-book the election, making it practically useless, imagining that I will form a majority with Berlusconi or with Grillo, I will step back, I will miss a turn.”

Many in the City would be reassured by the prospect of Monti staying on, although his lack of democratic legitimacy is a concern.

Greece's new austerity measures

Over to Greece again, where officials are refusing to deny or confirm reports in the media today about the measures.

Our correspondent Helena Smith says while the agreement is still tentative – ahead of further negotiations with the troika – Greek reports are suggesting that the vast majority of the savings will come from further cuts to state spending, pensions and public sector salaries.

Helena has analysed the reports, and reports:

• Around €10.5bn of the total €13.5bn package will come from cuts in government expenditure and €3bn from the levying of new taxes, according to reports.

• Once again pensioners and civil servants will bear the brunt of the austerity with €6.5bn being earmarked in cuts to wages, pensions and benefits.

• From 2013, the retirement age will also rise from the current 65 to 67.

• Pensions currently worth between €1,000 and €1500 will be slashed by 2%, between €1,500 and €2,000 by 5% and above €2,000 by 10%. Bonus holiday payments (known as the 13th and 14 wage or pension) will be eradicated for both retirees and civil servants.

All in all, pensioners will lose roughly a month’s worth of payments.

• According to the reports, some 15,000 civil servants will also lose their jobs between 2013 and 2014 – a measure that will reportedly save the government around €150 million. Public sector employees will have salaries reduced by 10 percent although staff employed with state-run utilities will see their wages drops by as much as 30 percent . Police, the judiciary and military personnel, who have joined anti-austerity protests in recent weeks, will also have their wages slashed by anywhere up to 23 percent.

Helena adds:

Then media is also making much of the new taxes that will be slapped on Greeks, already at the receiving end of a barrage of levies since Athens sought recourse to the EU and IMF with a first bailout program in May 2010.

The self-employed – long believed to be the most brazen tax evaders – will be particularly hard hit with taxes of up to 35 per cent on income earned. Bank deposits will also be taxed at a flat rate of 15 percent although in a bid to kick-start business corporate income taxes will be brought down from 42.5 percent to 35%

However, it would probably be too optimistic if the eurozone crisis were to escalate. The Bank of England's forecasts, for example, exclude the worst case scenario in the euro as the impact is unquantifiable.

In a new column for the New York Times called Europe’s Austerity Madness, Krugman argues:

Spain didn’t get into trouble because its government was profligate. On the contrary, on the eve of the crisis, Spain actually had a budget surplus and low debt. Large deficits emerged when the economy tanked, taking revenues with it, but, even so, Spain doesn’t appear to have all that high a debt burden.

It’s true that Spain is now having trouble borrowing to finance its deficits. That trouble is, however, mainly because of fears about the nation’s broader difficulties — not least the fear of political turmoil in the face of very high unemployment. And shaving a few points off the budget deficit won’t resolve those fears. In fact, research by the International Monetary Fund suggests that spending cuts in deeply depressed economies may actually reduce investor confidence because they accelerate the pace of economic decline.

Greece prepares to show Troika its cuts plan

In Greece, the day has also got off to a lively start with widespread media leaks of the new measures that are in store for the country. We'll have a summary shortly...

Our Athens correspondent Helena Smith reports that the Greek media is giving blanket coverage to the looming package of budget cuts, following the government's announcement yesterday that it has reached a "basic agreement".

But much of the agreeement could change, however, as the package now estimated at a whopping €13.5bn in spending cuts and tax increases (more than 5% of GDP), has to be "negotiated" with Athens' troika" of creditors first. Helena explains:

Mission chiefs representing the EU, ECB and IMF, who have spent the past week out of Greece, will return to Athens at the weekend. Finance minister Yiannis Stournaras is already lined up to present the package to them on Monday.

Prime minister Antonis Samaras, who heads the conservative-led coalition, is also expected to meet the troika officials in what Greek officials are hoping will be a "problem-free process" to getting the package approved. After months of nail-biting negotiations over the cuts (and it must be added often saltily-worded exchanges) between the governing alliance's three party leaders, a huge hurdle has finally been crossed. But, as the authoritative Ta Nea reported this morning, while there is "agreement inside," a "marathon outside" still has to be conducted before the curtain on the drama of the measures finally comes down.

Samaras has made clear that he wants to see the package endorsed by Greece's 300-seat parliament (where the tri-partite coalition enjoys a comfortable majority) as soon as possible and certainly before the next summit of EU leaders in Brussels on October 18. Having the package in his suitcase will enable the leader to better negotiate with the EU over prolonging Greece's fiscal consolidation program, say aides. Extending the adjustment period by two years is now seen as essential to ameliorating the impact of the measures, the government insists. But the leader appears to have met resistance from his two junior coalition partners.

While both agree on the urgency of the extension, they have also made clear that they do not want parliament to vote on the measures before the extension has been agreed with the EU. The socialist Pasok leader Evangelos Venizelos argues that the two-year grace period will change the package as deadlines will be radically altered.

Yesterday's Spanish budget has been well-received in the financial markets, with the European indices all higher.

FTSE 100: up 18 points at 5798, + 0.3%

German DAX: up 32 points at 7322, + 0.45%

French CAC: up 6 points at 3446, + 0.2%

Spanish IBEX: up 44 points at 7886, + 0.57%

Italian FTSE MIB: up 80 points at 15529. + 0.5%

As we reported yesterday, the Madrid government pledged to reduce its budget deficit to 4.5% of GDP in 2013, through around €40bn of cuts. We don't get full details until the weekend, though.

Given the scale of Spain's economic challenge, traders may be giving Mariano Rajoy's government the benefit of the doubt. There could also be relief that the budget did not provoke major demonstrations on the streets.

Another theory is that the budget measures brings Madrid closer to that bailout request. Marc Ostwald of Monument Securities explains:

Market reaction has initially been positive, but only because of the perception that this takes Spain one step closer to an ECB OMT programme, though the gaming tactics of Rajoy over recent weeks and months suggests that markets may well have to apply renewed pressure to Rajoy to push Spain into the arms of the ESM/ECB.

And as our own Giles Tremlett pointed out last night, Madrid faces a serious confrontation with the Catalan parliament over its drive towards independence:

Spain's deputy prime minister, Soraya Saenz de Santamaría, warned that the government would stop any attempt at a unilateral referendum, effectively challenging the Catalans to either desist or break the law and face the consequences.

"There are legal instruments to stop this," she said, pointing out that the government could simply apply to the constitutional court to ban it before it was held. "And there is a government that is prepared to use them."

French Q2 GDP change confirmed at 0.0%

The French government were given a reminder of their economic problems this morning, with confirmation that France's GDP was unchanged in the second quarter of 2012. That means the economy has been flat for the last nine months.

Bond traders on Thursday were poised to dump French debt if Mr Hollande reneges on his promise. The handling of Europe’s second biggest economy, which is on the verge of recession and a public debt of almost 90pc of GDP, is being carefully watched around the world.

It's a big day. In France, president François Hollande is presenting the details of the 2013 budget to his cabinet this morning. The budget is expected to include tough spending freezes and tax rises for the wealthy as Paris struggles to rein in its deficit.

The budget is seen as a huge test of Hollande's credibility. Can he deliver a credible plan to bring France's finances into line, without driving the already stagnant French economy into a downturn?

It's also another crucial day for Spain. After yesterday's painful budget, attention now turns to its financial sector. The results of the audit into the Spanish banks is due this afternoon, and will show just how troubled they are.

The Spanish stress test results could push prime minister Mariano Rajoy closer to applying for financial help; a move that could further fuel public opposition to his government.

As usual we'll be tracking the developments in Paris and Madrid. We'll also be reporting from Athens, where coalition leaders yesterday reached a "basic agreement" on a fresh package of budget cuts.